How 'baby bonds' and financial advice could reduce inequalities

Federal savings accounts for every newborn child would reduce the racial wealth gap by a "modest" amount and slash overall inequality by a "pronounced" level, a new study said.

But financial planning services that help guide the recipients on how to deploy their so-called baby bonds would play a pivotal role — if there were a national program along the lines of a policy idea that is gaining momentum in several states, according to a report last month by the Urban Institute, a nonprofit research organization that tracks data on social mobility and equality. The researchers calculated the potential impact of "baby bonds" — the shorthand name for a proposal by two economists that's aimed at narrowing the racial wealth gap by giving every child a savings account.

A program giving each baby a $1,000 savings account at birth, with annual payments until they turn 18 based on their family's income, would, like other recently studied interventions, make a small but notable dent in the current disparity of $1 million in wealth between Black and Hispanic families and their white counterparts, the study found. Focus groups of Black and Latino young people in four cities interviewed by the report's authors — as part of the first-ever research panels conducted on baby bonds — said they were "thirsty for financial education" and would want trusted advisors to assist them in considering how to invest the savings. 

That finding speaks to the important distinctions between baby bonds and universal basic income as policies, and between the terms "financial literacy" and "financial advising," said Naomi Zewde, a public policy scholar who is an assistant professor in the Department of Health Policy and Management at the University of California, Los Angeles. "They all need financial advising to know about where they're going to put their money and what the expected consequences are so they can make decisions for themselves."

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The report's authors, Damir Cosic, Madeline Brown, Amalie Zinn, Sonia Torres Rodríguez and Ofronama Biu, cited Zewde's simulation of the effect of national baby bonds as part of her 2020 study, "Universal Baby Bonds Reduce Black-White Wealth Inequality, Progressively Raise Net Worth of All Young Adults." They used a national baby bonds program outlined in a bill introduced in Congress that would open access to the money after the recipient's 18th birthday for restricted uses such as education, homeownership and long-term investing. However, they credited Darrick Hamilton of The New School and William "Sandy" Darity of Duke University for first proposing the idea of baby bonds in 2010.

"The essence of wealth is functional," Hamilton told Time Magazine last year. "We tend to think about wealth as an outcome, but its real value is what it can do for you."

Several states are beginning to test Hamilton's theory. Connecticut and the District of Columbia are implementing baby bonds programs passed by lawmakers four years ago, while California created savings accounts for children whose parent or primary caregiver died during the pandemic or who have spent multiple years in foster care, the Urban Institute's report noted. Lawmakers in a dozen other states have introduced legislation, while those in four additional states have passed laws to study the idea. 

The report tracked the effects of baby bonds across several different measures as part of what it described as only the fifth statistical simulation of the idea.

"We find, like researchers before us, that baby bonds would reduce wealth gaps between white and Black and white and Hispanic families," the authors wrote. "We also build on the literature with our findings that baby bonds would reduce wealth inequities across income quintiles, reduce the number of people taking on student debt and reduce the size of that debt. We find no significant impacts on college attendance, home equity or retirement account size. We spoke directly with potential baby bonds recipients and heard that in today's economic conditions, many would be interested in investing in a small business and that they would welcome financial planning supports along with their baby bond."

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In 2023 dollars, here are some of the main findings on how baby bonds would alter wealth inequality in the U.S. by the years 2042-2046:

• The average baby bond accounts for Black recipients would be $26,000, compared to $27,000 among those of Hispanic origin and $18,000 for white households.
  

• The baseline gap of 60% less median wealth among Black and Latino households with an 18-year-old child compared to white ones would drop to 50%.
  

• The ratio of white to Black wealth among households with an 18-year-old dependent would fall to 2.1 from 2.4. Among Hispanic families, that ratio would go down to 1.9 from 2.4
  

• Compared to the current baseline of median financial wealth being about 14 times larger among the richest quintile of the population versus the lowest fifth of households, baby bonds would shrink the ratio to roughly five.
  

• For families with an 18-year-old child, wealth would jump to $98,000 from $37,000 at the baseline level in the lowest quintile and to $108,000 from $60,000 in the second-lowest.
  

• The share of students who would use loans to cover their tuition "was significantly lower," including a decline to just 36% of Hispanic women from 58% and to 49% of Black men compared to 62% at the baseline level.
  

The seven focus group participants (59 young people in Atlanta, Baltimore, Boston and Oakland) "expressed some wariness about program delivery and implementation," the report said. Some shared doubts about whether such a program would be too good to be true, stigmas around government benefit programs and historical and systemic barriers to wealth. In particular, they also told interviewers they would hope to receive more advice on how to invest.
"Many said that if baby bond legislation was passed, they would want financial education, information on the greatest return on investment, or general financial advising made available to potential recipients," the report said. "When we asked young people what they saw as potential implementation challenges for a new federal or statewide baby bonds policy, the most common answer was a lack of financial education for youth to be able to administer the funds effectively. Many young people told us that they didn't feel like they had trusted advisors whom they could turn to when it came to questions of how to access key financial services, how to build credit or how to invest in the financial market or in real estate."

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Interestingly, a pilot program in St. Louis aimed at building Black residents' wealth in a gentrifying neighborhood is taking a similar approach in providing pro bono planning alongside grants of $20,000 each to longtime residents. That type of approach forms a contrast to the suggestion that lower-income people would achieve social mobility, if they were simply more financially literate and made better decisions about their spending habits or investments.

The need for professional guidance can sometimes get overlooked with so much discussion about how to limit the ways that the recipients can spend their accounts, Zewde said.

"There is a way to do it that's not patronizing," she said. "In some ways, it gets consumed by the debate around 'Should there be restrictions on how they can use it?' If they had really good advising, the restrictions might not take such a forefront in people's minds. … That's part of the political challenge. So I think that advising can be part of that, instead of restrictions or accompanying them."

Baby bonds represent something of "a low-hanging fruit, relative to race-specific policy," she added, referring to the current environment in Washington for far more costly and politically controversial ideas such as reparations or traditional government anti-poverty programs.

"There are different ways of framing it and thinking about it," Zewde said. "It's about giving people more of a relationship to financial markets. There's a lot for people who are more focused on markets to like."